Budgets are a significant undertaking, and rightfully so. Developing an all-encompassing strategic budget requires time, resources and thought. Typically, a detailed budget yields predictable results, but there are instances when the outcome doesn’t go according to plan. Why? Teams put too much focus on the wrong areas of spend, and too little on areas with bigger bottom-line impact.
Much like the spend procurement brings under management, building and discussing a budget should follow the 80/20 rule: 80 percent of time should be dedicated to discussing the most important 20 percent of spend. But how can procurement identify the right 20 percent?
Spend Areas for Focus
According to a recent survey by Deloitte, nearly 70 percent of CPOs view cost reduction as a top priority in 2015. If the goal is to cut costs, predictable categories of spend shouldn’t be the main focus. Instead, the discussion should center on investment opportunities like raw material cost fluctuations or areas for strategic reinvestment.
• Raw material cost fluctuations: Raw materials have the power to change categories of product and spend more than procurement realizes. Consider the price of oil, for instance. Fluctuating oil prices will have an impact on transportation costs and logistics. However, many procurement teams don’t take into account that these fluctuations can also affect the prices of derivative materials such as resin (an element that is used in plastic components and materials). The slightest difference in cost can leave a lasting impact, so it’s important to have line items associated with products and materials on the budget checklist. That way, procurement can be prepared as conditions change. Procurement should assess past raw material costs and demand numbers, as it can drive better forecasting and stability should an increase occur unexpectedly. It can also be helpful to check with suppliers to see if any contracts require modifications. Projections about anticipated increases and the impact they will have on services or products will save more money in the long run.
• Strategic reinvestment: The traditional approach to reinvestment usually involves recovering unused portions of the budget and reducing the corresponding cost center the following year —this often occurs after an economic downturn or when another part of the company needs additional funding. However, this approach does little to cultivate development or innovation within the company. Determining what should be done with unspent funds requires time and a comprehensive strategy. When coming up with a plan, make sure it is focused on results rather than the preservation of budget size.
The Importance of Technology
Technology, while essential in the modern world for so many aspects of corporate planning, is strangely underutilized in most budgeting cycles. In addition to managing transactional aspects of budget monitoring and control, technology can also predict spending trends. When spend categorization and line items align, the whole budgeting process becomes more fact-based. Procurement can then compare past budgets with actual spending to develop a more complete picture of where forecasting was the most (or the least) accurate. This makes it easier to pinpoint projects that never took place, as well as overages by cost center or supply requirement.
Technology also helps planners go beyond the traditional year-to-year comparisons. Longer, multi-year spend and cost trends can be teased out of a wider point of view enabled by analytics software. Such an approach enables planned spend for a single cost center, line item or business unit to be examined across multiple years, helping to forecast future spending and providing decision makers with more concrete information upon which to base recommendations.
By leveraging automation, procurement can prove they offer more value than just cost savings. It might not get the CPO a larger budget, but it is certainly a strategy procurement teams can take to the bank.
Companies often limit themselves when budgeting because they heavily focus on predictable categories or what they believe they can afford. Strategic budgeting is another way procurement can play a more critical role in an organization. Deloitte’s study found that only 28 percent of procurement departments feel they are positioned as highly regarded strategic business partners. By knowing exactly where they should be focusing their efforts, procurement teams will not only help their company get more out of their supplier spending, but will also make them stand out as strategic business partners.
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